Dividend Investors: Don’t Fear the T-Note

One of the broader themes of last week was a wide exodus from dividend-paying stocks amid the 10-Year Treasury yield’s jaunt above the 2% mark.

Click to Enlarge Indeed, the T-Note’s yield crossed over the S&P 500 dividend yield for the first time in more than a year as seen in the accompanying FactSet chart.

It’s been a long and somewhat slippery slope in the trend, but the sudden acceleration over the past month — in which the 10-Year’s yield has increased 38 basis points[1] — has corresponded with a selloff in some of our income favorites.

Specifically, I’ve previously highlighted the utility sector’s problems[2], though we’ve also seen issues with telecoms and consumer plays. For instance, Verizon (VZ[3]) is down more than 8% in the past few weeks, while consumer-oriented stocks like Coca-Cola (KO[4]), Johnson & Johnson (JNJ[5]) and Procter & Gamble (PG[6]) have slipped a couple points.

But should we as retirement investors be bailing out of dividend stocks?

Heck no.

The prevailing theory is that the aforementioned and other dividend stocks will see continued selling pressure when or as bond yields rise, however slowly that might occur.

But hold on a minute, please. It might be true that a swift rise in rates could raise a few eyebrows and (to draw on a baseball analogy) get the bullpen scrambling, but at what point might we see a serious rotation out of dividend stocks?

How about 6%? According to research by Leuthold Group CIO Doug Ramsey, that’s the 10-Year Treasury yield at which stock valuations historically start to come down through market selling. Wells Capital Management Chief Investment Strategist James Paulsen had a similar research find. The New York Times’ Paul Lim highlighted both studies[7], and spoke with the authors for further clarification on why a 6% yield appear to be the “magic” number:

Welles believes the 6% number is important as it “reflects the overall economy’s nominal growth.”

Ramsey offers the explanation that “for rising bond rates to hurt the stock market, they would have to be viewed by investors as real competition to stocks,” and that at 6%, (bonds) are thought of a “potential substitutes or replacements for long-term stock returns.”

Investors are watching the moves of Federal Chairman Ben Bernanke closely to find any signs that the Fed’s easing policies are in jeopardy, and if so over what time period. But while I certainly can’t speak for the Federal Reserve, the likelihood of seeing a nearly 400-point rise in T-Note yields anytime soon is remote at best.

If Ramsey and Paulsen are correct in their analysis, then perhaps a slow uptick might be enough to keep investors from panic-selling all their dividend-yielders. Of course, 6% seems a world away, and even more “modest” yields could entice people to swing back toward bonds — thus, I think a more prudent approach would be to closely monitor any holdings whose yields come in danger of being surpassed by the T-Note.

Even then, try to recognize the difference between panic-selling over yield and panic-selling over quality — should Treasuries’ yields keep heading north and unjustifiably punish worthy companies over income alone, don’t be afraid to swoop in for some bargain hunting.

Marc Bastow is an Assistant Editor at InvestorPlace.com. As of this writing, he was long JNJ and VZ.